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Financial Myths: “The Cobbler's Children Have No Shoes”

Akin to the saying, “Do as I say, not as I do,” this long-standing myth pops up frequently -- whenever people or companies should be the best at what they do or should at least do what they do - but don't. For example, a friend swears he once saw Julia Child in a supermarket buying frozen dinners.

The author worked for a human resources consulting firm for nearly a decade. Their client list formed a Who's Who of the Fortune 500. Business leaders revered how the firm's consultants could handle thorny personnel issues, help set effective strategy and improve managers' ability to solve problems. It naturally follows that the company's own personnel matters were pristine. In fact, the company suffered from high turnover thanks to poor hiring decisions. A newly appointed president was soon referred to as “not presidential timber.” A senior manager was arrested for public drunkenness and other unmentionable accusations. A group of employees pulled off a financial scam and stole intellectual property and client lists. You would think experts in this area would know better. Cobbler's children indeed!

Maybe the author is unlucky, but this myth haunts him. At a college, a wealthy donor pledged a large gift to refurbish and rename the college library. A graduate from decades earlier, the donor told Board members privately he didn't remember ever going to the library in his student days.

Until recently, members of Congress were allowed to trade based on insider information. As with so many cobbler's children cases, this is egregious. Public officials pounce on those who break the law. Only recently (May, 2013) did Congress overhaul provisions that winked at insider trading for members. Recent reports also indicate that finding evidence of such future activity will prove difficult thanks to where and how the records are stored.

Unhealthy Doctors?

How many doctors smoke? In a 2009 study conducted at the Mayo Clinic and published by Journal of Pakistan Medical Association, 37% of doctors and 35% of paramedics said that they smoked. According to the Centers for Disease Control and Prevention, as of 2011, 19.0% of all adults in the US -- 21.6% of males, 16.5% of females (43.8 million people) -- smoke. According to this sample, doctors smoke at a higher percentage than other adults.

All of these examples of smart people acting peculiarly set the scene for a financial Cobbler's Children tale. The MF Global story continues to unfold along with ugly details on what really happened. Most news reports focus on who knew what and who is lying. In such news reports, the “have no shoes” aspect is overlooked. In broad terms, a successful former Goldman Sachs executive, later Governor and Senator from New Jersey, who is now accused in a civil suit of “the misuse of almost $1 billion in customer funds” according to the Wall Street Journal, forms a “Cobbler's Children” exemplar. Here's why.

Return Without Risk?

MF Global dumped money into Greek and other troubled European debt. Naturally, they wanted to make money. Thanks to QE I, II and III and low inflation for years, interest rates in the US remain low. Greek and Italian debt fill the opposite end of the spectrum. Italian bonds were offering over 6% and Greek bonds even higher. Some of this troubled debt would make sense for any sizable portfolio in this low-interest era. “Some” might be 1%, OK maybe 2% if one likes risk. MF Global's holdings of this high yield debt reached $6.3 billion, so large it strained their liquidity. Here is the Cobbler's Children aspect. Along with high return comes high risk. (How quickly people forget Modigliani and Miller! Well, how quickly MF Global forgot.) The risk blew up and sank their hopes of easy wealth.

As the MF Global situation unfolds, two troubling patterns appear. In less than a year, the firm's holdings of euro-zone debt exploded. Second, the various internal bodies set up to review risk raised no serious objection. They appear to have believed that euro-zone countries cannot default.

The general outline of MF Global's financial flop was known a year and a half ago. What is clear now is that these troubles hold the seeds of criminal activity. More fundamentally, they derive from poor judgment, decision making so bad it has aroused the wrath of the Myth Buster. Such disregard for investment basics cannot be solved by the usual answer - more regulation.

The Cobbler has many children; his wife must be the old woman who lived in a shoe. So, be warned. If you are planning to hire a human resources consulting firm, ask if their current chief executive is “presidential timber.” For the really aggressive, ask for an arrest record. If you are heading to the hospital for a visit and worry about second-hand smoke, cover your mouth near the front door (where the smoking doctors congregate). And if you are talking to investment advisors, beware of such hard-sell alternatives as aggressive growth stocks, China and other emerging markets, new kinds of energy, IT miracles, and other commodities for those tired of gold. After the sales pitch on return, ask about risk.

Not only does this myth hold up, it seems to form part of the current business DNA. Next month, another pervasive myth will be explored.

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Michael McTague, Ph.D. is Executive Senior Vice President at Able Global Partners in New York.

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